Investment Highlights

• We maintain our HOLD call on Velesto Energy with an unchanged fair value of RM0.24/share, based on a 25% discount to its book value of RM0.32/share. As a comparison, Malaysia Marine & Heavy Engineering, which has a net cash of RM0.40/share, is currently trading at half its book value.

• Velesto has secured short-term charters for 2 jack-up rigs, Naga 3 and Naga 5 with an estimated combined contract value of US$10.8mil from Petronas Carigali.

• Both charters cover 2 firm wells with options for additional 2 wells. The Naga 3 charter, beginning on 15 July 2018 is expected to be completed on 15 August 2018 while the Naga 5 contract, which started on 1 August 2018, will be completed on 31 August 2018.

• Evidently, Repsol did not extend its charter for Naga 5 for another year. Assuming mobilisation costs of US$7mil, we estimate that the charter rate for the 2 rigs could be below US$70K, which is the current rate for the past 1 year in Malaysia.

• As these charters are only expected to last 1–2 months, we estimate that Velesto's rig utilisation will not be able to move beyond 5 out of its existing 7 rigs by 4QFY18, which is likely to struggle to break even.

• Naga 2 and 6 are currently warm stacked. Unless the Naga 3 and Naga 5 charters are extended beyond this month, the rig utilisation will likely reach only 3 rigs in September this year onwards.

• Recall that Velesto's 1QFY18 net profit of RM5mil would have been a loss of RM2mil–RM3mil with a rig utilisation of 65%, excluding realised forex gains of RM18mil.

• Recently, Velesto had also secured a US$25mil charter at an estimated US$70K/day for its Naga 7 jack-up rig to drill 4 confirmed wells with an option for 3 more from Sarawak Shell/Sabah Shell Petroleum Company Limited, commencing between 1 August and 30 September 2018.

• With regional daily rig charter rates at US$55K–US$65K, management affirms that Petronas does not foresee any increase in 2018–2019. In our view, weak charter rates of short-term duration, comprising a significant portion of its tenders and order book, continue to cloud Velesto’s earnings visibility.

• For Velesto to trade at forward PEs of below 20x, we estimate that its average daily charter rates could need to rise by 20% to over US$85K, which we view as unlikely in the medium term given that regional unutilized rig rate is currently at 45%.

• Hence, we view the PBV of 0.9x as high given that MMHE and Sapura Energy are trading at half their book values.

Source: AmInvest Research - 10 Aug 2018